Energy Policy 33 (2005) 451–465

ARTICLE IN PRESS

$The research

under Contract 1

and Change thro

University.

*Correspondin

7245683.

E-mail addres

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doi:10.1016/j.enp

Carbon intensity of electricity generation and CDM baseline:case studies of three Chinese provinces$

Chi Zhang, Thomas C. Heller, Michael M. May*

China Energy and Global Environment Project, Institute for International Studies, Stanford University, Encina Hall E 209,

Stanford, CA 94305-6165, USA

Abstract

A difficult and persistent issue in the discussion of Clean Development Mechanism is estimating a carbon emissions baseline,

against which tradable permits may be certified. This paper examines the proposition of adopting sectoral, as opposed to project

level, baselines by conducting case studies of the electricity industry in three Chinese provinces. We find that complicated central

planning, financial and institutional factors have been behind the declining trend of carbon intensity in electricity generation and its

provincial variations. Government planned electricity development which incorporates many of these factors and the associated

industry carbon intensity may serve as a second best baseline. However, the limitation of the baseline we examine in this study plus

difficulties numerous studies have revealed in baseline setting suggests that using baselines based on counterfactuals of what would

happen will in the end either miss good emission reduction opportunities, or compromise the integrity of the regime.

r 2003 Elsevier Ltd. All rights reserved.

Keywords: China; Electricity; Carbon emissions

1. Introduction

The Kyoto Protocol specifies three flexible mechan-isms as cost-effective instruments for mitigating globalgreenhouse gas (GHG) emissions. The clean develop-ment mechanism (CDM), defined in Article 12, is inparticular designed to exploit low cost opportunities indeveloping countries. Under CDM, developed coun-tries, which have a commitment to reduce their GHGemissions, are allowed to fulfill part of their obligationsby investing in emissions saving projects in developingcountries, which make no similar commitment. Thetrade of investment for emission credits will serve tolower the cost of emission abatement in developedcountries and achieve sustainable development indeveloping countries. Sensible as it is, CDM facesimplementation challenges because the method ofmeasuring tradable credits remains unresolved. At issue

is sponsored by the Electric Power Research Institute

92E032 and the Bechtel Initiative on Global Growth

ugh the Institute for International Studies of Stanford

g author. Tel.: +1-650-7239733; fax: +1-650-

s: mmay@stanford.edu (M.M. May).

front matter r 2003 Elsevier Ltd. All rights reserved.

ol.2003.08.010

is that, in order to achieve a real reduction in globalGHG emissions, tradable credits have to be certified asadditional to baseline emissions, or any that wouldoccur in these countries in the absence of CDM activities(Article 12.5c). However, what constitutes a baselineand which projects are therefore additional is extremelydifficult to determine.Many studies have investigated the baseline issue.

Chomitz (1999), Meyers (1999) discussed the inherentmoral hazard problem that tended to inflate the estimateof the emission baseline, leading to un-warrantedemission permits. They considered project additionalityby examining a project’s economic attractiveness. If aproject is attractive as an investment opportunity in theabsence of CDM activities, it should not be consideredadditional. Other studies pointed out various inaccura-cies and subjectivities of using project level economics asthe additionality criterion. For example, it overlooksindirect leakage effects (Geres and Michaelowa, 2002;Shrestha and Timilsina, 2002). It also does not recognizethe discrepancy between expected and real emissionreductions of a project (Vine et al., 2003).1 Moreover,

1 In the electricity industry, this discrepancy may arise when an

investment in a power plant qualifies as additional, but its electricity

ARTICLE IN PRESSC. Zhang et al. / Energy Policy 33 (2005) 451–465452

investment additionality neglects an array of financial,institutional and political barriers to project develop-ment in developing countries (Renz, 1998; Baumert,1999; Carter, 1997; Heller, 1998; Michaelowa andFages, 1999; Sugiyama and Michaelowa, 2000; Shresthaand Timilsina, 2002). If possible at all, a complicatedand costly administrative system has to be established toaccount for all these considerations. An alternative is tobroaden the baseline to the multi-project level orsectoral benchmark (Lazarus et al., 2000; Shrestha andTimilsina, 2002). A sectoral benchmark is a performancestandard for the emission intensity of the sector. Such abaseline is often considered as striking a balancebetween baseline accuracy and administrative costs,and is particularly appropriate for the electric powersector. Even so, setting an appropriate sectoral bench-mark still faces uncertainties regarding level of aggrega-tion as well as other tough issues to ensure theeffectiveness of CDM (Lazarus et al., 2000; Leininget al., 2000). Along this line, Zhang et al. (2001) lookedat the trend over time of the carbon intensity of powergeneration in the Chinese province of Guangdong andits drivers.This study extends Zhang et al. (2001) to examine the

expected trend of carbon emissions from the electricitysector of three Chinese provinces, their causes and someimplications for CDM activities. These provinces differfrom each other in their economic profiles, energyresources, market conditions and political power todetermine their own policy in electricity development.The view of this paper is that future business-as-usualenergy development and carbon emissions are a functionof changes in broader factors including economicplanning, policy, organization, infrastructure, andfinancial markets. A good understanding of thesechanges is therefore essential for setting the rightsectoral baseline to facilitate CDM activities. Moreover,as China exhibits major regional differences, electricpower industry development in different provinces willbe influenced by local factors as well as national drivers.In this study we evaluate the utility of a sectoral baselinein the context of electric power industry developmentand changes at the provincial level.2

The paper is organized as follows. Section 2 providesa brief development history of the Chinese electricityindustry. It provides a general background showingchanges that affect the electricity industry in the three

(footnote continued)

does not get dispatched later on at the same level as the project

evaluation assumes.2There are a number of studies of the Chinese electricity industry

(The World Bank, 1994; Shao et al., 1997; Holt, 1998; Zhu et al., 1999;

Andrews-Speed and Dow, 2000; Zhou et al., 2000; Gupta et al., 2001;

Xu, 2002; Zhang, 2003). Very few look at the provincial level

development and differences. Even fewer relate the industry study to

the carbon emissions baseline issue.

provinces. Section 3 reviews the electricity industrydevelopment in these provinces in the past 10 years.Economic and electricity industry data were collectedfrom each province. These data give a snapshot of theprovincial electricity industries at the beginning and atthe end of the decade. Projections for the next 5 or 10years were also collected. For our purpose of under-standing carbon emissions, detailed data of fuel patternsand distributions of fuel efficiency of power plants, interms of coal consumption per unit of power generation,were collected. In Section 4, we use a simple method tocalculate the carbon intensities of power generation inthese provinces between 1990 and 2010 and discussvarious driving factors behind the observed time trend.In Section 5, we evaluate carbon intensity projectionsprimarily based on the government industry develop-ment plans as an optional baseline in the context of theexisting additionality discussions. Balancing the advan-tages and limitations, we believe that such baseline, withsub-national variations, may serve as a second bestproxy of business as usual situation in China. Section 6concludes with the implications of our results for globalclimate change regimes. The limitation of the baselinewe examine in this study plus difficulties numerous otherstudies reveal in baseline setting suggests that usingbaselines based on counterfactuals of what wouldhappen will in the end either miss good emissionreduction opportunities or compromise the environ-mental integrity of the regime.

2. Brief electricity industry background

After 1949 the Chinese electricity industry wasnationalized and operated exclusively by the centralgovernment according to central planning. This wasguided by the new government’s ideology that publicownership of the means of production and centralplanning of the economy would overcome incomeinequalities and cyclical recessions plaguing capitalistmarket economies. Under this organization, the centralgovernment planned and financed the expansion ofelectricity infrastructure for three decades to fuel thecountry’s massive industrialization effort. Installedcapacity rose from 1.9GW in 1949 to 63.0GW in1979. A system of five regional grids connecting severalprovinces and a dozen disconnected provincial levelgrids gradually evolved. However, despite the rapidexpansion, electricity supply constantly fell behind thegrowth of demand for power under central planning.China started economic reforms in 1979 because of

the lackluster performance of central planning. Thereform, initially implemented in other sectors, spurredrapid income growth and widened the gap betweenelectricity supply and demand. Beginning in 1986, thecentral government started to decentralize investment

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0

100

200

300

400

500

600

1953 1960 1967 1974 1981 1988 1995 2002 2009

GW

Fig. 1. Chinese power generation capacity (1953–2010). Source: China

energy statistical yearbook; state development planning commission

projection, http://www.sp.com.cn/dlyw/rdxx/200304010009.htm.

480GW new capacity was to be built according to the original plan

drafted when the power market was slack. It was revised upward by

C. Zhang et al. / Energy Policy 33 (2005) 451–465 453

control in the generation sub-sector in an effort tofurther expand the system to meet the demand. Marketincentives were also gradually introduced in theelectricity industry as part of the scheme to replacecentral planning with markets in the economy. Duringthe transition years since then, provincial and localgovernments, non-government enterprises and foreignpower producers joined the central government to buildcapacity. Although the central government continued tobe the largest operator in power generation (as well asthe sole operator of transmission and distributionsystems), the combined share of capacity owned byother investors increased from close to nonexistent toover 50 percent of the national total in a matter of 15years. The decentralized capacity development andmarket incentives led to an unprecedented expansionof the electricity industry (Fig. 1). The growth effectivelyeliminated the nationwide chronic power shortage bythe late 1990s, and made the electric power system intothe second largest in the world.3

The electricity industry faces further expansion in thenext decade. Despite its size, the per capita installedcapacity is only 0.25 kW, and per capita annualelectricity consumption is barely over 1000 kWh. Bothnumbers stand at about 50 percent of the world averagelevels. According to the Chinese 10th Five-year Plan andlong-term development plan adopted in 2001, thecountry’s economy was projected to grow at 7–8 percentper year for the decade. Such a growth would increasedemand for power generating capacity by 4–6 percentper year for the 10th Five-year plan period (2001–2005).Accordingly, the State Development Planning Commis-sion (SDPC) has planned to build 110GW of new

3The turn of the power market from chronic shortage to surplus in

the late 1990s was only partly a result of supply expansion. The Asian

financial crisis of 1997 and tight domestic macroeconomic policy to

control inflation slowed income growth and demand for electricity.

capacity.4 An addition 100GW is planned for thesecond half of the decade. This translates into anaddition of 20GW to the system every year till 2010.Faced with this challenge, the government is deter-

mined to carry on reforms in the electricity as well as allother sectors of the economy, and rely more on marketsto support the growth. However, the structural trans-formation from central planning to market economy hasbeen and will be a long and difficult process. Thegovernment will continue to maintain a dominant publicownership of the electricity industry, exert a stronginfluence on decision-making, and plan industry develop-ment. Yet, there will be significant economic and policyuncertainties in the future development of the electricpower industry.

3. Provincial power industry development and carbon

emissions

Provincial and local utility industry developmentpicked up speed after the central government changedits policy in 1985. The sub-national utility developmentand reforms since then have been guided and bound bythe reform policies at the Center. Nevertheless, regionaldifferences have also evolved at the periphery aroundthe reform trend defined by the central government.

3.1. Provincial economic profiles

Guangdong, Liaoning and Hubei Provinces togetheraccount for 5.3 percent of the total area of China, 13.7percent of its population and 19.8 percent of its GDP(1998 figures).5 Their electricity sectors account forabout 20 percent of national installed capacity andpower generation (Table 1). Guangdong’s power systemis the largest provincial system in China, with 29GW orover 10 percent of national installed capacity. Liaoningand Hubei provinces have 14 and 13GW installedcapacity, respectively. However, Liaoning’s per capitapower consumption is twice as high as that of Hubei,reflecting the heavy industry component of thatprovince’s economy.The provinces differ from each other in several

important respects. First, they have very distinctiveeconomic profiles. Guangdong is the largest of the threein economy and population. Located in the rapidlydeveloping southeastern coastal zone, it is also the most

30GW in March 2003 because demand for power surged beyond the

projected percent maximum growth rate 2 years into the 10th Five-year

plan.5For our purpose of getting a snapshot of the sample at the end of

the decade, this is the latest year that comparable data were available

in three provinces.

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Table 1

Snapshot of the provincial economies, 1998

China Guangdong Liaoning Hubei

(%) (%) (%) (%)

Area (1000 km2) 9600 100 178 1.9 148 1.5 186 1.9

Population (million) 1248 100 71 5.7 41 3.3 59 4.7

rural (%) 70 69 54 73

GDP (RMB billion) 7835 100 792 10.1 388 5.0 370 4.7

GDP pc (RMB) 6307 11,122 9415 6289

GDP real growth (%)

1980–1998 9.5 14.4 9.0 10.5

Economic structure

Primary industry 18.6 12.7 13.7 20.2

Secondary industry 49.3 50.4 47.8 47.3

Tertiary 32.3 36.9 38.5 32.5

Installed capacity (GW) 277 29 14 13

Power generation (TWh) 1157 104 60 50

Per capita capacity (kW) 0.2 0.4 0.3 0.2

Per capita power consumption (kWh) 929 1388 1653 769

Source: China statistical yearbook, various years; Zeng et al., 1999; Liaoning EPRI, 2001; Cheng et al., 2002.

C. Zhang et al. / Energy Policy 33 (2005) 451–465454

dynamic, with one of the fastest annual income growthin the nation for two decades. Rapid growth trans-formed the provincial economy from being heavilyagricultural into a modern consumer goods manufactur-ing and services center. Agriculture, manufacturing andservices accounted for 12.7, 50.4 and 36.9 percent of theprovincial economy in 1998, a significant change ascompared to their respective shares of 34, 41 and 25percent in 1980. As a result of the growth and structuralchange, Guangdong is also the richest province amongour cases. Per capita income reached RMB 11,143 ascompared to the RMB 6392 national average.Liaoning has a relatively strong, though now slower-

growing, provincial economy. The province was China’s‘‘cradle of industrialization’’ and the center of heavyindustry since the first days of the People’s Republic.However, it has been experiencing great difficulties inreforming outmoded, large state-owned enterprises andrestructuring its rusty heavy industries. By 1998,manufacturing dropped by a third to 48 percent ofGDP. Its growth rate for the past two decades was thelowest of the three provinces, and below the nationalaverage.In comparison, Hubei has a more agrarian eco-

nomy—agriculture accounting for 35.7 percent ofprovincial GDP in 1980 and 20.2 percent in 1998.Seventy-three percent of the population live in ruralareas. Consequently, Hubei has a per capita income ofonly RMB 6289. Its growth experience has been sharedby many inland provinces.Second, the different growth experiences are to a great

extent associated with their respective political environ-ments for reform policies and local market development.Since 1979, the central government’s reform policy has

given preferential treatment to Guangdong. Indeed, thetreatment has been so special that Guangdong was evengranted the control of its provincial electricity systemand has enjoyed much discretion in their policiesregarding electricity development, while the powersystems of the rest of the provinces including Liaoningand Hubei have been tightly controlled and operated bythe central government, first through the Ministry ofElectric Power and later through the State PowerCorporation. The special policy treatment, togetherwith economic and financial ties with Hong Kong,propelled local market development and economicgrowth. Although Liaoning also lies in the easterncoastal area and enjoyed an economic open-door policy,it lacked the type of economic connections with theoutside world Guangdong had. More importantly, itsstate-owned enterprises proved to be extremely difficultto reform. As an inland province, Hubei did not receiveas much special policy treatment or influence fromoverseas market economies. However, China’s generalmarket economic reform provided incentives to theeconomy, which grew at an impressive rate of 10.5percent per year between 1980 and 1998.Thirdly, although energy needs in all three provinces,

as well as in China as a whole, are largely met with coal,their relative dependence on coal differs (Table 2). Coalaccounted for 54.4, 72.9 and 76.6 percent of primaryenergy consumptions in Guangdong, Liaoning andHubei, respectively. This difference is associated withtheir respective indigenous energy resources and accessto external supply. For example, situated in northernChina, Liaoning has a relatively large provincial coalproduction, an easy access to the coal outside theprovince, but few hydro resources. Guangdong is very

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Table 2

Provincial energy profile, 1998

China Guangdong Liaoning Hubei

Energy sufficiency (%) 94 60 73 24

Energy production (million tons sce) 1243 39 64 13

Coal (%) 71.9 13.9 64.3 67.1

Oil (%) 18.5 49.7 32.3 8.1

Gas (%) 2.5 10.7 2.9 0.7

Hydroelectricity (%) 7.1 25.7 0.5 24.1

Energy consumption (million tons sce) 1322 66 88 56

Coal (%) 69.6 54.4 72.9 76.6

Oil (%) 21.5 29.9 24.2 17.6

Gas (%) 2.2 0.4 2.6 0.1

Hydroelectricity (%) 6.7 15.3 0.3 5.7

Primary industry (%) 4.4 3.5 1.5 3.1

Secondary industry (%) 72.6 65.9 84.0 80.2

Tertiary industry (%) 12.1 16.6 7.6 6.8

Residential (%) 10.9 14.0 7.0 10.0

Source: China energy yearbook, various years; Zeng et al. (1999); Liaoning EPRI0 (2001); Cheng et al. (2002).

0

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120

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

TW

h

Hubei Liaoning Guangdong

Fig. 2. Provincial power consumption. Source: Zeng et al., 1999;

Liaoning EPRI, 2001; Cheng et al., 2002.

0

5

10

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30

35

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999

GW

GD LN HB

Fig. 3. Provincial power capacity. Source: Zeng et al., 1999; Liaoning

EPRI, 2001; Cheng et al., 2002.

C. Zhang et al. / Energy Policy 33 (2005) 451–465 455

poor in coal as well as other primary energy in general,and it is far away from China’s main source of coal inthe Northwest. It depends more on hydropower from inand outside the province, and consumes more oil. Hubeihas little primary energy except for hydro resources.However, developing hydropower along the YangtzeRiver is beyond the province’s capability. It depends onthe national government to develop large hydropowerstations such as Three Gorges project. The provincedoes have easy access to coal from the neighboringHenan Province.

3.2. Provincial electricity demand and supply

Driven by economic growth, China’s electricitydemand and capacity have increased rapidly since theeconomic policy changes of the mid-1980s. Fig. 2 showsthis upward trend in power consumption over the lastdecade in the three provinces. Differences in the leveland trend of power consumption reflect the differencesin the provincial economic profiles as discussed above.During the same period, total installed capacity and

power generation in all three provinces also rose rapidly(Figs. 3 and 4), with the most pronounced growth inGuangdong. Total capacity increased fourfoldin Guangdong from 8GW in 1990 to over 30GW in1999, and its generation increased about three timesfrom below 40TWh to above 110TWh. In comparison,capacity increases in Liaoning and Hubei during thesame period were much more moderate. In each of thesetwo similarly sized power systems, installed capacitydoubled and generation increased by one-third.All three provinces have been engaged in inter-

provincial electric power trade with their respectiveneighbors despite the wide-spread power shortage for

the large part of the 1990s (Figs. 2 and 4). The tradereflected central planned resource allocation rather thandifferential generation costs. For example, Guangdongstarted to export electricity from Daya Bay nuclearpower plant to Hong Kong in 1994 despite the

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1990 1999 2010 1990 1999 2010Liaoning Hubei

% o

f ca

paci

ty

hydro thermal

(a)

0

20

40

60

1990 1998 2010

Guangdong

% c

apac

ity

hydrocoal

oilnuclear

windgas

(b)

Fig. 5. (a) Electricity fuel structure of liaoning and Hubei provinces.

Source: Liaoning EPRI, 2001; Cheng et al., 2002. (b) electricity fuel

structure of Guangdong province. Source: Zeng et al., 1999.

0

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120

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999

TW

h

HB LN GD

Fig. 4. Provincial power generation. Source: Zeng et al., 1999;

Liaoning EPRI, 2001; Cheng et al., 2002.

C. Zhang et al. / Energy Policy 33 (2005) 451–465456

province’s severe power shortage. The Daya Bay nuclearpower project was specially planned by the centralgovernment to generate electricity to be sold to HongKong. In the Northeast, Liaoning was long agodesigned as the industrial and load center. Otherprovinces in the region were developed as its energysources. Thus, Liaoning has been importing largeamount of electricity as arranged by central plans, evenwhen its own generating plants were in good part idle inthe late 1990s. Due to its hydro resources, Hubeiexchanges power with neighboring provinces seasonally.

3.3. Provincial electricity sector fuel structure

Fuel structure changes in the past 10 years andprojections for 2010 are summarized in Fig. 5. In bothLiaoning and Hubei, power generation is based on arelatively simple fuel structure of thermal, predomi-nantly coal, and hydro sources. The majority of capacityin Liaoning is coal-fired, and the coal share has beenrising. Future development is based almost exclusivelyon the construction of coal-fired power plants.Unlike Liaoning, Hubei is rich in sources of hydro

energy. Hydropower was traditionally the main compo-nent of the provincial power system. However, asdemand for power surged in the 1990s, there was arapid increase in coal-fired capacity, which surpassedhydro as the province’s dominant source of electricity by1999. Hydro development has been lagging becauselarge resources located in the province such as ThreeGorges hydro station are actually controlled by thecentral government. Their development is subject tomore protracted decision and planning processes as wellas government budget constraints. However, as thecentral government is shifting policy to encouragehydropower development, a significant increase inhydropower is expected in the next 10 years. Inparticular, the 18.4GW from the Three Gorges hydro-power station will gradually become available from

2003, and is scheduled to be fully installed by 2009. TheThree Gorges power will be supplied not only locally toHubei, but also to load centers in East and SoutheastChina.The fuel structure of Guangdong’s electricity industry

is more diversified and dynamic than those of the twoother provinces. Significant changes in the past 10 yearsinclude the growth in the combustion of oil and theaddition of nuclear power. Projected changes for thenext 10 years include major new hydro imports andaccompanying transmission investments, further in-creases in nuclear power and the expansion of naturalgas, from pipelines and imported LNG, as a new fuel forelectricity. Guangdong has decided to develop a 2000-MW gas-fired generating capacity, and import 33 billiontons of LNG annually from Australia starting from2005. These increases will replace oil primarily for thesame reasons that oil has largely been replaced as a fuelfor electricity worldwide: fluctuating prices, dependenceon foreign cartelized suppliers and relatively highervalue in transportation and other non-generation uses.

ARTICLE IN PRESSC. Zhang et al. / Energy Policy 33 (2005) 451–465 457

Even with these diversifications, coal will reinforce andaugment its position as the dominant fuel. By 2010, coalwill account for half of the total provincial capacity—anincrease of almost 10 percent from 1998.

3.4. Fuel efficiency of power generation

The fuel efficiency of thermal power plants may beinvestigated by looking at the ‘‘heat rate’’–the amountof coal consumption per unit power generated. Fig. 6shows the heat rate distribution of generation fromthermal power plants. Each bar in the histogramsrepresent a fuel efficiency category, i.e., grams ofstandard coal equivalent (sce) per kilowatt of electricitygenerated. The data for Guangdong are based onelectricity supplied (generation less plant internal con-sumption), while data for Liaoning and Hubei are based

0

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400-449450-499

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(a) (

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1990 1998 2010

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300-349350-499

400-449450-499

500-549550 -

(c) (

Fig. 6. (a) Fuel efficiency of thermal power generation of Liaoning provinc

generation of Hubei province. Source: Cheng et al., 2002. (c) Fuel efficiency

1999. (d) Fuel efficiency of oil power generation of Guangdong province. So

on electricity generated. In total the data presentedcover 92 and 93 percent of coal-generated electricity inGuangdong in 1990 and 1998, respectively; 66 and 70percent in Liaoning; and 60 and 77 percent in Hubei.The discrepancy can be explained because, for bureau-cratic reasons, data were not always available for smalllocal power plants in Liaoning and Hubei. As a result,the histograms for those provinces may seriously over-estimate the efficiency with which coal is burned there.Inter-provincial comparisons thus must be made withcaution.One interesting observation is that in all three

provinces, the heat rate of thermal power generationdisplayed a bifurcate distribution in the early 1990s. Itwas clearest in Guangdong and least obvious inLiaoning. The omission of small plant data in Liaoningand Hubei contributed an unknown amount to this

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d)

e. Source: Liaoning EPRI, 2001. (b) Fuel efficiency of thermal power

of coal power generation of Guangdong province. Source: Zeng et al.,

urce: Zeng et al., 1999.

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0.10

0.15

0.20

0.25

0.30

0.35

1985 1995 2005 2015

Mt (

C)/

TW

h

Guangdong Liaoning Hubei

Fig. 7. Provincial power sector baselines. Liaoning and Hubei data are

for 1999 and Guangdong for 1998.

C. Zhang et al. / Energy Policy 33 (2005) 451–465458

difference. Because these plants are known to be highlyenergy inefficient, the inclusion of their data will likelyraise the inefficient end of the distribution in Figs. 6aand b.The size of generation units and standard technology

shifted toward more efficient fuel combustion for twomain reasons. The central government promoted large-scale units and restricted construction of power plantswith less than 300MW capacity. In addition, as the gapbetween power demand and supply narrowed towardthe end of the decade, a national moratorium on thebuilding of small power plants was instituted. As thepower supply turned into surplus in 1997, the centralgovernment also ordered the shutdown of many small,inefficient thermal power generators. Efficient technol-ogy became relatively more important in Liaoning andHubei by 1998 compared to 1990. However, a noticeableamount of electricity was still generated from low-efficiency power plants (Fig. 6c). A similar bifurcate heatrate distribution also exists among the oil-fired powerplants in Guangdong between 1990 and 1998 (Fig. 6d).Further technology improvement and decommission-

ing of high fuel consumption plants are predicted for thenext 10 years. According to provincial projections, by2010 most power generated in Liaoning will have a unitcoal consumption of 350 g sce or lower per kWh.Similarly, due to the mandated greater scale andtechnical quality of new plants and the expectedremovals of less efficient units, average performance inHubei and Guangdong is officially predicted to furtherconverge to 300–400 g sce/kWh power generated. How-ever, if demand increases unexpectedly and supplybecomes insufficient, the process of replacing inferiorwith advanced technology may be delayed, and dis-organized local development may resume. Similarly,local fiscal revenue and/or employment considerationsmay also hold up the process.In brief, the observed trend for the 1990s reflects the

electricity sector expansion among provinces fueled bytheir income growth. While the importance of coal hasincreased in Liaoning and Hubei, fuel structure inGuangdong has become more diversified. Similarly,there has also been a bifurcated development ofadvanced and inferior technologies. It is difficult toenvisage this trend changing rapidly, particularly in viewof the priority given to stable electricity supply.

6Standard decomposition method indicates that carbon intensity of

electricity generation can be disaggregated into energy efficiency and

fuel mix of power production. See, for example, Kim and Worrell

(2002).

4. Change in the carbon intensity emission and its causes

A carbon emission baseline for each province wascalculated by applying a carbon emission factor to eachfuel used and multiplying that factor by the amount ofthat fuel used. The figure of merit is carbon emitted perunit electricity produced, which is a form of carbon

intensity that characterizes the electricity generation.Results for the three provinces are shown in Fig. 7.The carbon intensity of electricity generation in the

three provinces has shown a downward trend forthe past 10 years. This trend is projected to continuein the next decade in Liaoning and Guangdong, but toremain flat in Hubei, based on provincial and centralgovernments planned figures. The actual numbers forthe late 1990s and planned for 2010 compare favorablywith India, e.g., which obtains about 80 percent of itselectricity from coal, but unfavorably with developedcountries such as the US, which gets 30 percent of itselectricity from non-fossil sources. Comparisons areeven less favorable with some European and East Asiancountries such as France, Japan and South Korea,which get more of their electricity from non-fossilsources.The trend in Fig. 7 is indicative of combined changes

in two components of carbon intensity, i.e. energyefficiency improvement associated with technical pro-gress and with changes in the fuel structure in electricitygeneration.6 Our case studies of the causes in threeprovinces find that several economic and institutionalfactors have shaped these changes. We briefly discussthese factors here, while May et al. (2002) containsdetails.The most important determinant of China’s existing

electricity profile, as well as of its expected sectoraldevelopment, is central planning by the nationalgovernment. Long-term energy planning in Chinahas invariably focused on energy security and, asa consequence, reliance on domestic resources. A

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coal-based technology structure has been establishedover time—the result of the abundance of coal and thegovernment’s long-term support of coal through centralplanning and price and fuel-import controls. Partly as aresult and partly because of the cost advantage ofburning coal with minimal pollution controls, coal hasremained the main feedstock of power generation innearly all provinces, and particularly in relatively coalabundant North China. Within this constraint, Beijinghas defined the scale, technical choices, siting andfinancing of power sector growth throughout the periodunder study. The increase in the 1990s in the number oflarge scale (300MW) generation units and improve-ments in their efficiency in all three of our provincialcases have been motivated by central state planningoriented to this standard model.While the progressive change of the structure of

electricity investment has been motivated predominantlyby central energy planning, other economic and politicalfactors have resulted in more local variation in theefficiency of power generation. Some of these factors areattributable to structural characteristics of the Chineseeconomy that have been relatively constant over thecourse of its development. For example, some variationin provincial energy profiles arises from the absence ofadequate transport infrastructure to move coal ortransmit electricity generated in resource rich (coal,hydro) regions to economically advanced load centerswhere the demand for energy lies. Such infrastructureweaknesses have seriously limited the role of centralplanning in long-term optimal resource allocation. Thissituation is clearly reflected in the regional differen-tiation of fuel development of the electricity industry.The Hubei provincial government’s power generationdevelopment stresses hydro capacity, while Liaoningrelies on the abundant coal supplies of NorthwesternChina. Guangdong province seeks to diversify its fuelsources to reduce its dependence on the coal it mustimport from the Northern provinces.Other factors that have mitigated the predominant

influence of central planning are better attributed tomore cyclical economic and political phenomena. Whilethe impact of central planning appears in the prolifera-tion of large-scale, technologically more advanced, andmore (ex ante) fuel efficient projects, the limitedfinancial and political capacity of the central govern-ment to keep up with growth in electricity demand insome Chinese provinces during their periods of higheconomic expansion has led to a partial relaxation ofcentral planning and the emergence of more decentra-lized, usually more carbon intensive, energy develop-ment in these provinces. In effect, Chinese electricitydevelopment, and its bimodal emissions baselines, maybe understood as a dual system, with a larger core ofcentrally planned standard units and a periphery ofmore varied, usually smaller scale units. These periph-

eral units have generally been built, financed andmanaged by local levels of government, sometimes asco-investors (joint ventures) with offshore Chinese orforeign independent power producers (IPP). The relativesize of the core and periphery elements of the electricitysystem has been determined by regional growth rates, byshifting national macroeconomic and capital marketpolicies that determine the volume and sources ofinvestment financing, and by the uncertain politicsof federalism that play out as an unending theme ofChinese governance. In general, when economic growthis high, macroeconomic policy restrictive, and centralauthority weaker, the relative importance in baselinedetermination of decentralized investment in less stan-dardized electricity plants grows.As discussed in Section 2, the central government

partially relaxed its investment control in the mid-1980sto allow other investors to develop their generationcapacity to meet residual demand not satisfied by centralplanning. As planned power supply fell short of risingdemand, provincial/local governments and non-govern-ment enterprises started developing capacity outside theplan. This development was not subject to any coherentpolicies, standards or regulation and led local govern-ments and enterprises to build many small-scaleuneconomical and dirty thermal plants in the 1980sand early 1990s to supplement what they were able tofinance through the core state system. Especially, ascentral government macroeconomic policy becamerestrictive in the early 1990s and the initial efforts toreign in the credit practices of state banks, new leewaywas offered to alternative financing for new energycapacity that included foreign IPPS and experimen-tation with public stock issues.Guangdong offers the clearest example. The province

suffered the greatest power shortages because of itsextraordinary growth, and also received the most liberalpolicy treatment at the beginning of the market reforms.The provincial government even obtained full control ofthe electricity system, including the grid, within theprovince. Not only were more small plants built, but asignificant number of them were oil-fired to avoid localcoal shortages. The combination of growing federalism,tight macroeconomy, and expanded access to capitaloutside the state banking network resulted in substantialperipheral development around the electricity core and,in turn to the bifurcate distribution of energy efficiencyamong coal and oil-fired power plants demonstrated inFig. 6 directly associated with this dual-track develop-ment.At least three factors have caused or reinforced

decentralized capacity development normally to besmaller and less efficient than are core nationallyplanned and financed plants. The first is the shortageof long-term financing, which severely hampered elec-tricity industry development. At the beginning of the

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7The definition of ownership is extremely murky in China. In reality,

most power sector assets are controlled by the government in a way

just as if it owns them. Government’s misuse and abuse of state assets

are so severe that Chinese academics and policy makers commonly

consider ‘‘absence of owners’’ the fundamental problem challenging

market reforms and affecting economic performance.

C. Zhang et al. / Energy Policy 33 (2005) 451–465460

1980s power projects were financed through centralgovernment budgetary allocations (capital grants).Grants were then gradually replaced by loans fromstate banks and state policy banks. After 1985, earlyreforms aimed at reducing inefficiencies in creditextended to state firms and the burden of adding 12–13GW of capacity to the energy system every year fortwo decades put a tremendous strain on these traditionalsources of financing, which became increasingly inade-quate to perceived needs. However, as local govern-ments were permitted to raise their own funds and inviteprivate investors to enter the power generation business,a large amount of local government funding for energydevelopment came from a limited pool of retainedearnings of industrial plants that they controlled andfrom commercial bank loans. These loans typically hadshort maturities, were small in comparison to the scaleof power plants and imposed harder budget constraintsthan did state bank lending. Often the repayment periodwas as short as 5 or 6 years. This financing arrangementcreated incentives to invest in small thermal projects infast-growing localities with relatively greater politicalautonomy. Moreover, because relatively smaller plantswere often beneath the thresholds of central regulation,both public and foreign private investors could loweradministrative risks by reducing scale.The second factor that favored less efficient develop-

ment was local protectionism. The effective control oflower level governments of their respective localeconomies lead to a lack of integration in electric powerdevelopment. As discussed in many studies (Lieberthaland Oksenberg, 1988; Lieberthal, 1997; Zhang et al.,2001), each level of administration in China, fromcentral down to county and city governments, isresponsible for the economic development of the areasthey govern. Within this prevailing organizationalarrangement, economic and political incentives existthat caused provincial and local governments to insulatethe economic activities within their jurisdictions. Whenthey were encouraged to invest in power generation tomake up the shortfall of central government supply,political leaders of successive local governments pro-moted electric power development only within theirrespective jurisdictions because they provided muchneeded economic growth, employment, fiscal revenuesas well as badly needed power. Both imports andexports of power to and from wider regions wereinhibited because local governments operating a smallerlocal economy preferred to build small, if inefficient,power plants. The investment rule was far from marketoriented.The third factor that promoted inefficiency was the

continuing political control by the central governmentof electricity offtake allocation and dispatch, even asgeneration was in part decentralized. The dominantprinciple of this control is the general balance rule (Zong

He Ping Heng). In practice, the rule has favored politicalstability as a criterion for electricity dispatch. Eachprovince holds electricity allocation meetings annuallyand quarterly. Power demand is allocated amongexisting plant capacity and newly added capacityproportionately. Electricity is then dispatched accordingto these quotas. Under conditions of power surplus, therule ensures that many inefficient and dirty plants canmaintain their share of power on the grid despite highcost and pollution. At the same time, the rule pushedlocalities with local industrial demand for secure powerinto building their own smaller plants in order to avoidpolitical denial of access to state electricity.As the power market reversed from shortage to

surplus in the late 1990s, the political balance ruleproduced different inefficiencies. On one hand, alloca-tions to protected end-users are guaranteed by thebalance rule. On the other, power plants fighting fordispatch generated political struggles. Motivated byparticularistic economic and political interests, all levelsof government from the center down to counties andcities exercised their influence to preserve their ownpower-generating facilities. Because of local governmentprotection, it often proved problematic to close perma-nently the numerous small, inefficient and dirty plants.The problem is clearly demonstrated in the peril of Er-tan Hydropower Project. The hydropower station,which was developed by the central governmententerprise in Sichuan province, had tremendous diffi-culty selling its power due to local protection. Theincident became an important impetus of the reform tobreak up industry monopoly and regionalism (seePeople’s Daily, July 10, 2000 for details).In sum, China’s electricity sector has moved from a

centralized hierarchy to a more complex politicallandscape that is still far from a market ideal. In thissituation, the future of Chinese electricity developmentwill be determined by a variety of factors that grow outof this history. As in the past, the most important factorwill be the continuing influence of the central govern-ment as in the power sector. This role is grounded inboth government controlling ownership of power sectorassets and control of capital market on the economicside, and single party dominance over rule of law andinformation dissemination on the political side.7

Although China has made tremendous effort in thepast 20 years to separate government from the businessof supplying electricity, little progress has been made inreforming these institutional underpinnings. Unlesselectricity sector reforms bring about fundamental

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8The Chinese government, like other members of the Group of 77

and China, has consistently opposed such a cal, even if, as some have

proposed, the cap includes substantial headroom over the expected

emissions levels. Alternatively, a dynamic cap pegged to some overall

rate of economic growth would lend itself to considerable bookkeeping

uncertainties.

C. Zhang et al. / Energy Policy 33 (2005) 451–465 461

changes in these areas, the government will continue toplan industry development according to its perceivedpriorities and political preferences, facilitate investmentin state-owned power companies to support the plan,and resort to political negotiations to balance differentinterests. In this case, investment and operationalprofiles in the core of the electricity sector will be setby central government decisions about scale, fuel choice,generation and distribution technology, environmentalquality and dispatch that are reasonably reflected incentral planning documents.Near term electricity futures and their derivative

carbon baselines can then be predicated on the balanceof three drivers. The first is what choices are made bycentral planning authorities. With regard to direction ofcentral planning, the consensus among Chinese plannersis that the chronic situation of severe power shortage hasbeen fundamentally replaced by a more or less balanceddevelopment (see, for example, Zhao, 2002; GTDRC,2003). In all three provinces we studied, as well as acrossChina, it is expected that old, inefficient small fossil fuelpower plants will gradually be shut or at least forced toreduce their dispatch. In addition, the central govern-ment will modify its long-term strategy to stress morediversified fuel development. The change may be due inpart to the environmental damages coal combustion hascaused, but it also reflects a central government priorityto develop backward and yet energy rich westernregions. Following this priority, the current 10th Five-Year Plan (2001–2005) and 10 year mid-term develop-ment guideline have planned a number of large projects,some already started, to develop hydropower and coal-fired mine mouth capacity that require new high voltagelong distance transmission networks, as well as naturalgas pipelines and LNG facilities. These and otherchanges, discussed below, in energy strategy anddevelopment planning can yield a projected decline incarbon intensity of power generation in all of the threeprovinces analyzed.Nevertheless, before postulating an electricity baseline

consistent with these planning directions, it is necessaryto consider the other two potential drivers of develop-ment. The second driver will be the degree of market-oriented reform in the electricity sector that might, ifeffective, diminish the import of planning. The thirddriver is the relative size of core and peripheralelectricity investment, along with the pattern of varia-tion that might be expected if decentralized decisionmaking again expands. As in past periods, the primefactors that will determine this ratio include the overalland regional rates of economic growth, macroeconomicand financial market policies, and the political ability ofregional and local governments to protect theireconomies. The likely impact of these drivers on theplanning baseline in the next decade is discussed inSection 5.

5. Baseline options for CDM

Sectoral carbon intensity has recently been proposedas an alternative baseline for CDM activities as asubstitute for troublesome project level baselines.However, even the proponents of sector baselineacknowledge that setting a power sector baseline is stilldifficult and subject to a similar trade-off betweenenvironmental integrity and administrative costs towhich project level baselines are subject (Friedman,1999). Complicated issues of aggregation, stringency,data and updating have to be managed to ensure theeffectiveness of such a baseline (Lazarus et al., 2000).We have drawn provincial carbon intensity baselines

of power generation for Guangdong, Liaoning andHubei in Fig. 7. The trends for the 1990s reflect actualchanges in the energy efficiency and fuel structure ofpower generation. The projections of future carbonintensity are based on the government planned devel-opment of provincial power sectors for the next 5 and 10years. While there may be some doubt as to whether thecarbon intensity projected on the basis of governmentfive-year planning can be used to facilitated CDMactivities, we think such a baseline does have severaladvantages.First, a carbon intensity baseline does not limit

development and is politically more acceptable todeveloping countries. In developing countries, nationalpolicy is more concerned with economic growth and,albeit with less intensity, about the abatement of themost immediately noxious and health-damaging pollu-tants than with carbon abatement. Policy makers notethat their countries should not have to share burdens ofcarbon mitigation that were not borne by the nowdeveloped countries during their earlier periods ofeconomic growth. China shares this view. Growth,improved efficiency in power production and lesspolluting fuels that have more local effects than GHGreduction are national and provincial priority goals. Onthe other hand, a total sectoral emissions target or cap,which would simplify carbon permit trading, butpotentially limit economic development, would not beacceptable.8 Consequently, a figure of merit thatrewards GHG emissions mitigation consistent withthose goals may have the better chance to lead to abasis for agreement on Chinese and internationalcollaboration for carbon abatement. Carbon intensityis one such a figure of merit.Second, as Zhang et al. (2001) suggests, using a

baseline derived from government five-year planning is

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less prone to moral hazard and gaming because the costsof manipulating development planning may outweighpotential CDM benefits. If anything, current Chineseeconomic plans are likely to overstate the degree ofmodernization, the effectiveness of institutional reformsand the rate of the switch to natural gas as a fuel—all ofwhich are promoted by special interests and organiza-tions within the central government. As a result, whatactually happens may be less than what has beenplanned. This implies that the problem of moral hazardand unwarranted inflation of the carbon baseline may beminimal.Third, government plans are formed on the basis of

government energy policy decisions and institutionalsupport. They are also made in coordination withmacroeconomic development and with considerationof financial constraints and environmental concerns.Therefore, they take into account, however imperfectly,the entire electricity system—generators, grid, pollutionabatement facilities, and other needed infrastructures,together with any planned demand-side managementand distribution and service improvements. Manyanalysts of baselines suggest that systematic factors thatheavily influence electricity project development indeveloping countries are often excluded from proposedinvestment additionality criteria. Constructing a base-line on an entire sector rather than on projects providesa way at least partially to include the listed contextualfactors in the baseline. Ideally, a perfectly structuredelectricity market that appropriately takes into accountboth short- and long-term needs would also incorporatethese factors, but perfectly structured electricity marketshave not been realized anywhere, let alone in developingcountries.Fourth, our earlier discussion suggests that

China’s electricity development in the future has beendominated at its core by central planning anddirection. At the same time, our case studies alsoindicate that levels and trends of carbon intensity ofpower generation have varied among provinces, reflect-ing differences in income growth, power demands,policy environments, and local resource endowments.Previous experience has shown that conflicts of econom-ic and policy interests among different levels ofgovernment may hamper system-wide optimal useof resources, efficiency improvement and inter- andintra-regional co-operations. The problem has beenparticularly apparent with regard to local unplannedconstruction of small power plants and the difficulty inshutting down inefficient power plants as ordered by thecentral government. Thus, the future use of sectoralbaselines at the provincial level might be warranted inChina, especially when the interconnections betweendecentralized power systems are too weak technically orpolitically to support frequent and large-scale powerexchanges.

However, in the coming period, the absence ofinterconnection, like other factors such as rapid growthand macroeconomic constraint that have contributed inthe past to expanding peripheral differentiation, maybecome less important. Reforms now underway projectthe consolidation of the ownership and management ofregional grids into only two national, independent,public transmission companies. $43.5 billion is plannedto be invested in power delivery systems between 2001and 2005, with $20.5 billion to be invested intransmission lines, many long-distance and high voltage,that will interconnect the whole country except forTibet, Xinjiang and Hainan Island by 2005. Thispolicy in favor of national energy integration isreinforced by the current construction of massiveinfrastructure projects such as Three Gorges hydrostation and the west–east gas pipeline from Xinjiang toShanghai. As provincial systems become interconnectedand power exchanges develop, sectoral baselines shouldbe better reflected in centrally planned electricitydevelopment.A credible planning baseline may also be relatively

more appropriate in the coming period than it wouldhave been in the years encompassed by our case studiesbecause of lower expected growth rates that outrun thecapacity of central financing to keep up with increasingenergy demand. After more than a decade’s capacityexpansion, researchers and policy makers now generallyproject that future electricity market will be more inbalance than in the past (see Zhao, 2002; GTDRC,2003). In addition, it is no longer clear that either localprotectionism in fast growing regions or availablefinancing sources for peripheral development would beless efficient than planned baseline plants as waspreviously true. For example, the fast growing provincesof Guangdong and Shanghai seek to increase localgeneration and reduce prospective dependence onimported power, through the international developmentof gas pipelines and LNG projects. If these projects aretreated as incremental to planned sectoral carbonbaselines, the impact on carbon intensity is unlikely topose moral hazard issues.Alternatively, reliance on centrally planned develop-

ment as a sectoral baseline could be compromised if theeffectiveness of plans becomes more contingent on theoperations of real energy markets or the need for privatefinancing of energy capacity. In this regard, thegovernment has recently initiated policies to restructureutility market in the next few years. The reform aims tode-integrate generation and transmission as the firststep, and create competitive wholesale markets. Never-theless, in most countries which have implemented suchreforms, political and institutional factors have con-founded efforts to create ‘‘ideal’’ markets for electricity.Such factors are also likely to have a large impact onhow market reforms unfold in China. In particular, it is

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9See Press Release, June 10, 2003 at http://unfccc.int.cdm.

C. Zhang et al. / Energy Policy 33 (2005) 451–465 463

important to note that the five national generation stockcompanies created by the reform to inherit the assets ofthe defunct State Power Corporation are all controlledby state owned interests. Given the market power these‘‘independent gencos’’ are likely to wield, it is difficult tosay in advance that the influence of the centralgovernment over industry development necessarily willwane. However, whether restructuring may produce neweconomic incentives for energy resource allocation andinvestment that complicate the effectiveness of centralplanning remains to be analyzed.Similarly, uncertainties associated with the institu-

tions for long-term capital financing will continue toplay a major role in the credibility of national planningand any carbon baseline based on those plans. Tosupport 7 percent annual economic growth for the nextdecade, the power industry has to maintain at least a 5–6percent annual capacity increase. In addition, gaspipelines, power grids, new hydro projects and otherinfrastructure development also are included in centralplans, creating huge financing needs. At present, areturn to expansive macroeconomic policies havefavored state lending to planned energy facilities. Inaddition, the corporatization of the reorganized, pub-licly controlled electricity generators and grid companieshas allowed their privileged access to Chinese andforeign stock markets as a source of new equity capital.Moreover, foreign investment has been adverselyaffected by legal problems that arose from the govern-ment’s repudiation and renegotiation of power purchaseagreements in the context of late 1990s surpluselectricity supplies. Until a functioning capital marketis established, and a rule of law better secured, privatefinancing will remain questionable in the power sector.Each of these factors limits the need and potential foralternative financings that motivated decentralized andunplanned infrastructure growth between in the yearsbetween 1985 and 1997.Yet the central government is burdened by debt-

laden, state-owned enterprises; social security andwelfare liabilities; and a potential banking systembailout that make problematic the continuation ofmacroeconomic policy that increases state debt as apercentage of national income. In addition, althoughpower companies have recently been able to attractequity investors because of their relative profitability ascompared to other troubled state owned companies,China’s securities markets remain speculative andvolatile precisely because they are subject to governmentinfluence. China still lacks both a liquid public marketfor domestic corporate bond placements and institu-tional bond buyers. As in the case of electricity sectorrestructuring, the financial conditions that would seemto increase the import and reliability of plannedbaselines are sufficiently unstable that caution in theiruse remains advisable.

On balance, under the best of circumstances, the useof planned projections of carbon intensity as a sectoralbaseline has disadvantages. Their application is limitedeven for other energy sectors where output is not ashomogenous as electricity. Their generalization to otherdeveloping countries may be still more difficult becauseour discussion makes it clear that the possibility of suchbaseline is tied to China’s unique history and to thecharacteristics of its centrally planned economy. And,our studies demonstrate that in the past, plan-basedsectoral baselines, though adhered to in general terms,would have missed with some regularity the actualvariations in energy profiles among provinces andthe many layers of government. However, given theexpected evolution of the factors that influence thescope, role and effectiveness of central planning inChina to direct development in the electric powerindustry in the next 5- and 10-year periods, futurecarbon intensity trends associated with the plans, as theyare differentiated for individual provinces, may serve asacceptable benchmarks. While the limitations anduncertainties associated with plan-based baselines sug-gest that they are not immune to inaccuracy, they areprobably in the near-term the second best proxy ofbusiness as usual carbon emissions.

6. Concluding remarks

CDM, as structured in the Kyoto Protocol, representsone international policy instrument to facilitate partici-pation of developing countries which have not volunta-rily committed to GHG emission targets. Sound in basiceconomics, it proves difficult to implement due to lackof a credible method to project baselines of GHGemissions against which to measure additional CDMcaused mitigation. While special processes to facilitatethe approval of small-scale projects have been enacted,the initial experience with larger projects that have thepotential to abate emissions at significant scale indeveloping countries has resulted in the unwillingnessof the CDM Executive Board to certify any of theproposed baseline methodologies which were submittedto it.9 This initial experience only emphasizes theproblematic character of project level baseline meth-odologies and underscores the importance of agreeingon the validity of alternative measures that combinereduced transaction costs with a sufficient assurance ofenvironmental quality.This study has examined carbon emissions baselines

of power generation in three Chinese provinces. It findsevidence of many factors at play in power sectorinvestment decisions. The finding corroborates theexisting view that it is inadequate in developing

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countries to determine whether a project is additional toa business as usual baseline by examining only aproject’s private economic and technical characteristics.Instead, the counterfactual baseline of what wouldtaken place in the absence of a CDM project incorpo-rates a rich portfolio of policies and institutional choicesincluding macroeconomics, capital markets, exchangerates, decentralization of government, subsidies, and theperformance of the legal system. The centrality of thesefactors to what business will or will not do is reflected inthe primary strategy of foreign IPP investors in China inthe 1990s, a strategy by which they tried to obviate theircommercial, political, regulatory and exchange risksthrough legal contracts (power purchase agreements)that were themselves finally compromised by weaknessesin the rule of law. In the end, politics are endogenous tothe baseline in China and cannot be omitted from itscalculation without either missing opportunities forGHG reductions or compromising the integrity of theinternational climate regime.Our analysis suggests that using government plan

projected carbon intensity trends has some advantagesand may be a convenient solution to the baseline settingproblem in the special case of China. In those places andtimes when the political and financial capacities of theplanning authorities are likely to be capable ofimplementing plan objectives, investments and comple-mentary policies, plan guidelines, whether national orregionally specific, may avoid many of the limitationsand uncertainties associated with sectoral baselinesother studies have shown. In particular, plan baselines,if effective, have the advantages of opening acknowl-edging that energy systems function as systems, thatbusiness as usual decisions are the products of theirpublic context, and that baselines are the outcomes ofpolitical choices as much as private economics. In thesecircumstances, which are highlighted in developingcountries like China where the impact of politics onenergy system investment is not likely in the near term todissolve into merchant markets that minimize theongoing influence of changing political landscapes, itmay be that a more effective approach to internationalcollaboration lies in focusing on political strategies andeconomic incentives to shift the baselines themselvesthat will define what constitutes business as usual in thecoming period.In this respect, new study by Heller and Shukla (2003)

on post-Kyoto policy directions suggests that themethodological dilemmas of project-based methodo-logies like CDM may be better managed by interna-tional cooperation mechanisms that are grounded in theadmission that the shape and performance of energysystems are inevitably political. Rather than seeking anobjective account of what is additional, in hybridpolitical economies that mix competitive market fea-tures with continuing state controls of major generators,

transmission firms and capital sources, as does the likelyChinese energy future we have described, it may be moreproductive, and honest, to bargain directly over baselinesetting. The keys to such negotiation would be tocondition international assistance on the design anddelivery of integrated packages of rules, policies,investments, fuel choices and technologies that functionas a unit to change a baseline at either the national,provincial or even municipal levels. Such packageswould have to be formulated by government officials,state companies, and, where appropriate, foreigninvestors linked in a coalition interested in enhancingthe market share of more sustainable energy andcapable of carrying out the energy system modificationsfor which they contract. International assistance couldcome from a combination of bilateral deals, multilateralinstitutions, export–import banks, or specially dedicatedclimate funds. Such contributions could be combinedwith offset credit schemes in national or internationalclimate mitigation, no matter how these may evolve inthe post-2012 period. Our purpose here is not toprescribe how such a mechanism might best bestructured. It is to underline what has been the mainfindings of our China studies: baselines in China havebeen and will be the products of political choice; treatingthem as such is the better road forward.

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